Econ 201­ Microeconomics­ Glen Waddell 

What is the definition of Cross Price Elasticity?

Midterm 2 Study Guide

*Bring Green Scantron!

*Student or Gov Issued ID

*#2 pencils

Definitions: 

Normal good: is a good for which demand increases as income increases  Income elasticity: % change in quantity of x/ % change in income  Cross Price Elasticity: % change in quantity of x/ % change in y

Price floor: a government imposed limit on how low a dollar price can be charged

Imposed above (below) the equilibrium price is effective… surplus (ineffective... it  doesn’t change anything)

 Agriculture price supports

 Dairy price supports

 Federal minimum wage (higher minimum wage, higher 

unemployment)

Price Ceiling: a government imposed limit on how high a dollar price can be charged Imposed below (above) the equilibrium price is effective (ineffective)

 Insurance and utility rates

What is the meaning of Consumer Surplus?

 Gas

 Food

 Prescription drugs

 Rent controlled apartments

 Tuition)

Productions Possibilities Frontier: The combinations of various goods that can be  produced given available resources and technology

Absolute Advantage:  if that individual can produce more than others in the same time  or the same amount as others in less time

Comparative Advantage: if the individual can produce the good at lower cost than  others

Specialization 

∙ Would we both be better off through specialization?

∙ If your roommate is good at math do you ask him to help you with your math  homework or your English homework? If you’re good at English and he’s not, do you switch homework? You’d both be better off focusing on what you can  produce better

∙ Through specialization you both end up with more stuff

What is The Coase Theorem?

∙ What will happen over time as specialization occurs?

o You’re going to get better at producing your product

o Your production possibilities frontier is going to decrease because  you’re focusing on one item We also discuss several other topics like companionate love consists of intimacy and commitment, but may be lacking in ________.

The Principle of increasing Opportunity cost: As the production of one good increases, the opportunity cost of producing another unity (marginal cost) of producing that good  generally increases

Consumer Surplus: the amount producers receive upon selling the units above the costs  of producing unit

Efficiency: the absence of waste. Obtained where Marginal cost of production equals the  Marginal Values of consumption

Welfare: the sum of consumer and producer surplus. Defined this way, it’s maximized in perfectly competitive markets

The “Law” of demand: as the price of an item rises, the quantity demanded of the item  generally falls

∙ Qd(p)=a­bp, where a>; 0, b>0

∙ Since, b>0, inversely related If you want to learn more check out purdue fnr

o Qd(p)=10­2p

 At p=2 quantity demanded in the market is 10­2(2)=6units

Supply: 

∙ Qs(p)=2+2p

∙ Quantity supplied rises two units for every dollar increase in price ∙

Equilibrium

∙ Suppose that Qd(p)=50­p and Qs(p)=20+2p

o Qd(p)=Qs(p)

o 50­p=20+2p

o p=$10  Qd(10)=Qs(10)=40

∙ Suppose Qd(p)=400­10p and Qs(p)=100+2p. Is a price ceiling of p=$10  effective?

o 400­10p=100+2p

o p=25

o $10 price ceiling is effective because 10<25

o Shortage (Qd(p)=400­10(10)=300, Qs(p)=100+2(10)=120

∙ Inverse demand: p(Qd)=60­Qd

∙ Inverse supply: p(Qs)=0.5Qs

Inputs, or factors of production: Anything that in any way contributes to production Production function: The relationship between inputs and outputs

Total Product: the amount of output obtained in total from a given quantity of input 

Marginal Product: The change in the total product that results from a 1 unit increase in  an input, holding the amounts of all other inputs constant

The “Law” of Diminishing Marginal Product: As more of one factor of production is  used with a fixed quantity of other factors, the marginal product of expanding factors  ultimately decreases Don't forget about the age old question of bio 93 midterm 1

Average Product: The total product divided by quantity 

Marginal Revenue Product: the increasing total revenue that results from a 1 unit  increase in an input, holding the amounts of all other inputs constant

o If we know the MP of an input and the price of the output P, then we can calculate the MRP by, 

o MRP=MPxP

The Coase Theorem: in the absence of transition coasts, resource allocation is  independent of the assignment of liability (or distribution of property rights)

Table example 

(definition equations put to use)

    Inputs            TP         MP        MRP      wL         Hire?      TR     TC   Profit If you want to learn more check out biol 201 concordia

1 3 3 30 $40 Yes 30 40 ­10

2 8 5 50 $40 Yes 80 80 0

3 15 7 70 $40 Yes 150 120 30

4 21 6 60 $40 Yes 210 160 50

5 26 5 50 $40 Yes 260 200 60

6 30 4 40 $40 Yes 300 240 60

7 22 3 30 $40 No 330 280 50

8 35 2 20 $40 No 350 320 30

9 36 1 10 $40 No 360 260 0 Don't forget about the age old question of bioee 1780

Questions: Don't forget about the age old question of What then, is Public Administration?

∙ Farmers can plant either corn or soybeans in their fields. Suppose that the  first decade of the 21st century, a new technology for converting corn into  liquid furl increases the demand for corn. What will happen? o The supply of soybeans will decrease

∙ In May of 1996 a Value Jet airliner crashed in Florida. Allegations were  made that cost cutting by Value Jet had led to reduce safety measures. On the day following the crash, airline stock rallied. UAL gained 6 to 214, AMR gained 2.5 to 92 and Delta air rose 3.375 to 85.657

o Anticipated behavior changed so stock prices rose because  everyone wanted a piece of the other airlines (demand for airline  stock increase-prices adjust upward)

∙ Suppose that over time, technological innovations act to lower the cost of  music piracy. What would you expect to happen in the retail market for  recorded music?

o Demand in the retail sector falls and prices adjust downward…  fewer units are exchanged

o Long run predictions: if the market is segmented and those with a  higher willingness to pay- retail prices should increase

∙ The wall street journal reports that crude oil prices soared after the U.N.  froze the Iraqi oil pact that was to permit Iraq to resume sales of oil on the world market. Why should oil prices rise when Iraq was not selling oil at  the time?

o Expectations –demand adjusts

o Prices adjust upward

o Quantity increases

Surplus:

∙ Tutor: $10 an hour

Time Benefit Price/ Hour Price Net Benefit 

1 30 10 10 20

2 45 10 20 25

3 60 10 30 30 

4 70 10 40 30

5 75 10 50 25

∙ With 3 hours of Tutoring you get the same Net Benefit as 4 hours of  tutoring  

∙ Total Surplus= Consumer Surplus + Producer Surplus  

∙ Consumer Surplus: Producer Surplus:

∙

∙ ∙

∙

∙

∙ Suppose the government builds a dam on a river in order to  generate electricity. The dam also creates a lake that enhances  recreational use of the land. As a result rents on the land increase  and campers and hikers are charged a higher fee for use of land

o These increase in use-frees are a measure of benefits created by the dam

o The lake is worth that use-fee

∙ If property rights aren’t well-defined, transaction costs are positive  and resource allocation is different insofar as they are spent  attempting to better-define these rights

o When the right to a seat at Autzen stadium are not well defined, resources are reallocated toward keeping the peace o Where workers are prone to shirk, resources are reallocated  toward monitoring workers

Self Review Checklist:

Preliminaries  

∙ What is economics

∙ What is our role

The economic problem

∙ The organization of an economy

∙ Prices and markets

∙ Theory

∙ Policy analysis

∙ Scarcity and competition  

∙ Cost- value of the next best alternative  

∙ Demand and supply

Consumer Theory

∙ Individual preferences and behavioral postulates ∙ Valuation- total versus marginal  

∙ The optimal purchase rule and demand theory ∙ The diamond water paradox

∙ Sale prices

∙ Inflation

∙ Individual responsiveness

∙ Demand determinants

∙ Shipping the good apples out

Exchange and Supply

∙ Voluntary exchange- you can't be forced into it ∙ The supply side of the market

∙ Organized markets

Demand and Supply

∙ Demand determinants and changes in demand ∙ Supply determinants and changes in supply ∙ Interactions between markets  

∙ Price controls

∙ Black markets

Cost and production

∙ Productive advantages

∙ Societys production choice

∙ Marginal cost and supply

∙ Market efficiency  

Production, Profit and Property Rights

∙ Production technology

∙ Factor demand

First Midterm Review:

Definitions: 

∙ Price: Ratio of exchange

­Ex: Raise price of DUI­ raises the number of hit and runs

∙ Theory Value: Testability­ How well it predicts behavior

­Scientist cant prove anything. At best we fail to refute Ex: one cannot prove gods  existence or lack there of

∙ Regulation: designed to alter the behavior of individuals by using some  appropriate set of incentives (sanctions and rewards) to induce us to incur the  costs of a behavior change

­We put costs in front of the unethical forms of competition to push people into the right  paths 

­Ex: Punishments for immoral actions like jail, fines, tickets, etc. 

∙ Incentive: must serve to raise the gains or lower the costs (positive incentive) or  opposite (negative) 

∙ Scarcity: not having enough of the items we find desirable to satisfy our wants 

­Ex: Mineral, water, clean air, wildlife, land / Labor hours by labor force / torque of a  given turbine engine 

­Pollution isn’t a scarcity but clean air is

∙ Opportunity Cost: of any decision is the value of the next best alternative  foregone

­Ex: How does one determine the financial rate of return to a 4­year college degree, most  expensive part=time 

∙ Consumer theory: characterizes consumers’ choices in a systematic way ∙ Producer theory: characterizes producers’/sellers’ choices in a systematic way 

∙ Demand curve shows the amount of a good consumers wish to purchase at  specified prices (negative slope)

∙ Supply curve shows the amount if a good producers are willing and able to sell at specified prices (positive slope)

∙ Equilibrium­ where the demand curve and supply curve intersect  ∙ Surplus: an excess of quantity supplied over quantity demanded 

∙ Shortage: an excess of quantity demanded over quantity supplied 

∙ Behavior Postulates: People have preference, more is preferred to less, people  are willing to substitute, marginal values are decreasing

­ We can’t accurately describe the preferences of a group, It would be problematic if  we based theory on groups: ex. 3 people have 3 different Republican­primary candidate  preferences 

∙ Valuation: we measure value by what one is willing to give up in order to obtain  something 

­Ex: one gives up $40,000 worth of other goods to buy a car reveals that the car has a  value of at least $40,000

∙ Intrinsic Value: we will maintain that an object cant have value beyond what  people are willing to pay for right to control the object 

­ Value of human life: US government says $7­8 million to a human life 

∙ Total Value: the max amount of money a consumer is willing to pay in order to  acquire the good, the minimum amount of money a consumer is willing to accept  in order to give up the good 

∙ Marginal Value: the max amount a consumer is willing to pay to acquire one  more unit of the good 

∙ The law of diminishing marginal value: for all individuals and good the  marginal value of goods decreases as more of that good is consumer, holding  other things constant

­After running a marathon, how might you value the first glass of water? What about  the first relative to the second? The first glass of water is a lot more valued than the  second

∙ The optimal purchase rule: a consumer is always better off by purchasing an  additional unit of a good if the marginal value of that next unit exceeds the price  he would be required to pay for that unit 

­That is, the consumer should continue to purchase additional goods as long as  Marginal Values>Price

∙ The law of demand: as the price of an item rises, the quantity demanded of the  item generally falls 

∙ The Diamond­water paradox: Why are diamonds more expensive than water,  which is essential to all life? the market prices of goods reflects consumers  marginal values of these goods and not their total value

­One more glass of water is worth less than one more diamond

∙ Inflation: prices rise

­ If there are currently 20 million packs of cigarettes sold in a week, how much revenue  will a new $.25 per pack tax generate for the government?

­Will they still sell 20 million after the tax is imposed

­Probably less than $5 million (20x.25)

∙ Price­elasticity of demand: measures the responsiveness in quantity demanded  to change in price­ (%change in quantity of x) / (%change in price of x)

­What determines the responsiveness of an individual’s choice of quantity demanded to a  change in price?

The availability of close substitutes, ex: cigarettes, prescription drugs­ steep slope  The fraction of income spent on the good 

The unit of time: with the passage of time, the response to a given change in price  becomes greater (2nd law of demand) 

∙ Normal Good: A good for which demand increases as income increases ∙ Inferior Good: response to income increases

∙ Substitutes: two goods for which the demand of one good increases as the price  of the other good increases

 MacBook pro  Dell Latitude

 Econ major  Business major

 Beer  Spirits?

∙ Complements: two goods for which the demand of one good increases as the  price of the other good decreases 

 CDs  CD players

 IPod  ITunes

 Coffee  Cream

∙ Voluntary Exchange:

o What is the basis of trade (why does it exist?)

 Voluntary exchange is based on mutual benefits 

 Everything depends on free choice 

 Are you willing? Forced? 

 The only way you can back out value is if the situation was  forced/coerced, the rules change